Nearly all actively-traded equity options trade on multiple exchanges today. However, such widespread trading has been practiced only recently. From 1977 until 1999, most options were listed only on a single exchange and traded on the floor, so there was no choice as to where to send a customer's order for execution. As options exchanges have only routed orders to each other using the Intermarket Linkage since 2003, the marketplace did not employ nor require complex routing algorithms.
As the options market structure has evolved to more closely resemble the equities market structure in the past few years, there is an increasing need for more sophisticated routing models and methodologies. For example, certain options have recently been allowed to trade in pennies as part of a penny pilot program. As quotes move around more quickly in a marketplace where issues trade in pennies, one of the consequences could be more routing. As liquidity becomes spread among more price points, market participants may be unable to obtain immediate and complete execution at the NBBO, and may need to execute at multiple price points to be filled.
As the current intermarket linkage plan was developed so that market makers could access liquidity on other exchanges, there is a need for a faster, alternative “direct” routing protocol with fewer restrictions and greater speed. A “direct” routing protocol may be especially advantageous for issues that do not require market maker participation, such as highly-active options that trade in pennies. The “direct” connection may be a single third-party order delivery provider; may be multiple direct network connection providers accessed in a round robin fashion; or may be any other linkage alternative, including private direct pipelines.
There is accordingly a need for a rules-based options order routing model that can accommodate both legacy and new routing protocols concurrently. Such a rules-based routing model must be able to automatically choose, on an order-by-order basis, the appropriate routing destination and the appropriate routing protocol to reach that destination, depending on the characteristics of the order to be routed and the eligibility of the receiving market centers. The routing decisions must be immediate, anonymous, and fully electronic.
Additionally, there is a need for a system and method that minimizes the impact of away market best bid and offer quote traffic on the other components of the system, especially if the away market quotes are at prices that are inferior to the NBBO and do not result in execution opportunities.